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CFA Level I · CFA Level I Exam · Yield-Based Bond Duration Measures and Properties

A portfolio manager must meet a single liability due in 8 years. She considers a 12-year bond with a Macaulay duration of 8.0 years. Compared with a zero-coupon bond maturing in 8 years, the 12-year bond is most likely:

The 12-year bond carries both price risk and reinvestment risk, but because its Macaulay duration equals the 8-year horizon, the two effects approximately offset for small immediate parallel yield shifts. Matching is by duration, not maturity, and the offset is only approximate.

  1. AFree of reinvestment risk but exposed to price risk at the horizon
  2. BExposed to both risks, but they approximately offset for small parallel yield shiftsCorrect
  3. CEqually immunized, because maturity rather than duration determines the offset

Explanation

With horizon equal to Macaulay duration, the 12-year coupon bond has price and reinvestment effects that roughly offset for small, immediate parallel shifts. It still has both risks, which is why the offset is approximate. The zero-coupon bond has no reinvestment risk, and maturity is not the matching criterion.

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